Analyzing the Pharmaceutical Industry through Quantitative Models

Russakoff, Andrew, Gould, James, Review of Business

Abstract

This paper undertakes two tasks. First, we shall give a summary of the last 50 years of the pharmaceutical industry trying to establish in which ways it is typical of American industry and in which ways it is unique. Second, we shall discuss the applicability of quantitative models for analyzing the industry.

Introduction

The importance of the historical context for examination of the pharmaceutical industry is easily established. The pharmaceutical industry (or drug industry, for this paper) was simply another aspect of the American economy before 1930. Much of the industry's effort was expended in marketing various patent drugs directly to consumers. These drugs were more what we now would call elixirs and potions. They were rarely tested. They often had little or no effect. Probably the creams and lotions did more good because of the fatty base than for the specially added herbs.

We must understand this commerce as occurring in an unregulated setting. The only control was caveat emptor. In such a setting it is easy to see one of the odd peculiarities of the drug industry. There is some effect of supply exerting pressure on price. Some customers might prefer a less expensive product. Some customers prefer the more expensive product in the hope that the greater price reflected greater efficacy. This was an industry with little innovation in the modern sense.

This situation began to change after 1930. A series of natural products with health benefits far more scientifically based came onto the market. Foremost among these were vitamins and hormones (insulin, in particular). It was no longer a matter of advertising claims, but the results of laboratory testing. Still these were often products sold directly to consumers. The other players in the modern pharmaceutical industry had yet to become so important.

The next big change was the discovery of anti-infectives, sulfanilamide in 1935 and penicillin in 1940. They were such a big change in the world of the drug industry that the implications of the discoveries were not clear. The scientists who established the anti-bacterial properties of penicillin did not imagine selling, licensing and marketing. Here, American commerce built on the science of the British.

A significant step forward in this direction was achieved with the American patent awarded in 1948 for streptomycin. This 17-year legal monopoly changed the nature of the drug industry. The American drug industry already had a dominant position after the second World War. The industry was poised to exploit the discovery of penicillin. It was strong due to the war effort. And its (European) competition was still recovering from the devastation of war (except for Switzerland, which still is a global competitor). In this respect, the drug industry was like the automobile industry in so far as it was dominant internationally because of the stimulus of the war effort and the devastation of the competition.

With penicillin as a model, drug companies looked for new wonder drugs for the enormous profits that came with a popular drug and patent protection. This defining rush for the industry was brought to a slower pace by the amended Food and Drug Act of 1962. This was the result of the hasty introduction of thalidomide to treat nausea in pregnant women. Although it was in use in Europe, its wider introduction into the U.S. came with the discovery that it produced deformations in children (phocomilia). The shock of this led to stricter safety standards [1].

It is apparent already that the American and international markets were closely entwined. Some of the American companies had already established branches overseas. Some European companies had branches in the U.S. The other options for U.S. companies were export (subject to lots of country-specific taxes and regulations) and licensing.

Pharmaceutical products usually fit into one of the following categories:

1. …

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